Transfer pricing strategies and the impact on organizations.

• Author: Tully, Brian
• Position: International Tax

Around the world, governments facing budgetary crises are tightening transfer pricing regulations and strengthening enforcement in order to generate new tax revenues, thereby increasing the administrative and compliance burden faced by multinational corporations and other taxpayers.

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In the United States, the Internal Revenue Service is adding 100 specialists to strengthen enforcement of transfer pricing laws. In India, for the first time, the finance minister wants to expand the scope of transfer pricing provisions to include domestic transactions. In Russia, Brazil, China, Poland and Korea, tax authorities have increased their focus on transfer pricing.

Most recently in the U.S., the Obama administration proposed transfer pricing reforms that would redefine the definition of intangible property and excess returns issues--and promised to reduce the nation's deficit by $24 billion over 10 years.

While the right transfer pricing strategy and execution can save a company millions of dollars in taxes, the wrong strategy can trigger penalties that are two or three times greater than the original tax. This risk is increasing with the wave of regulatory reforms occurring globally and the rapidly changing international regulatory environment. As a result, it is no surprise that transfer pricing compliance has become a top priority for global companies.

The following examines what companies are doing to create an end-to-end transfer pricing practice that will reduce their tax bills as well as the risk they may face in an audit.

Stated simply, transfer pricing is the movement of money from one country to another. Done correctly, it can save a company millions of dollars; global if not done accurately, transfer pricing can put global companies at significant risk for audits, interest and penalties--and, in some cases, even result in double or triple taxation.

Transfer pricing involves the pricing of transactions between related parties to be conducted at a market rate, often referred to as an arm's length price. Transfer pricing rules are intended to prevent companies from using intercompany pricing as a means of evading taxes by inflating or deflating the profits of a particular entity.

U.S. international tax policy was originally formulated prior to World War I; thus, some provisions of the Code are nearly 100 years old. In 1968, the Internal Revenue Service issued regulations covering the procedures for applying the arm's length standard and specified the acceptable transfer pricing methods to test the arm's length nature of intercompany transactions.

In 1979, the Organization for Economic Co-operation and Development (OECD) developed transfer pricing guidelines. In 1994, the U.S. finalized IRS Tax Code Section 482 transfer pricing regulations and has since updated its rules regarding cost sharing arrangements and intercompany services.

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